As it dumps entire steel factories, China stays one step ahead of US

The threat to global trade institutions is not of Chinese parallel trade circumventing the current order, but rather a challenge from China establishing a parallel trade system. This parallel system will slowly pull the gravity of legitimacy toward China’s domestic institutions.

It is headed by the International Capacity Cooperation (ICC) policy, which is designed to offshore industrial capacity. In this transition from "dumping commodities," to "dumping factories," China is rewriting the global trade rulebook, while the U.S. attempts to rein-in a shadow industry.

It has been clear that China has been dumping steel and aluminum on international markets for years, and likely other industrial output as well. But there is nothing in the World Trade Organization (WTO) rules about dumping the factories, plants and smelters abroad and just continuing to subsidize overproduction in external geographies.

So this International Capacity Cooperation policy is a novel solution to a problem that is illegal under current international public trade law. In part, this strategy precisely defends against unilateral sanctions.

And the wider narrative is that this offshoring of capacity is a game changer: ICC, if effective, would be as big a paradigm shift as China joining the WTO was in 2001.

The key difference between dumping factories and dumping commodities is that industrial outputs would no longer be domestic overproduction, they would be new developed capacity of the host economy, and legitimate exports.

The deployment of this trade and industry policy from Beijing means regardless of any unilateral U.S. action, we would expect industrial dumping to ease up from China, but for output to begin to pick up from East Africa, Central Asia, Middle East and Southeast Asia.

These outputs would not start showing up as dumping though, because they are to be the inputs into the One Belt, One Road Initiative infrastructure projects.

China also wants to lose these jobs in the steel and aluminum sectors because a Keynesian fiscal stimulus policy from 2008 meant that China is now burdened with industrial overcapacity in sectors that it sees as sunset industries as it chases high-technology manufacturing.

Through the supply-side reform policy, China is cutting capacity in domestic industrials and moving them either inland or offshore. This takes the pain out of closing factories at home, as China can move 100-150 million workers into higher value added manufacturing in 5G, satellite technology, robotics, new materials and nanotechnology.

China could conceivably agree to not research, plan and deploy the following national industrial policy, say a future "Innovation China 2050" policy, but it would be impossible to roll back Made in China 2025 and the strategic emerging industries. That would be like China asking the U.S. to roll back the last six Federal Open Market Committee policy decisions.

China’s heavy industry is also largely still run at a state capital level. Any Chinese firms directly targeted will simply go down, restructure and rapidly re-emerge under different funding and ownership arrangements. On top of all this, China is transitioning to become an eventual net-importer.

That means that the gravity of power shifts much more to the Chinese buy-side. So, closing China’s export markets to the U.S. will not hurt China as much as it would have 20 years ago.

China responded with surgical threats on proxy commodities. The reciprocal targeting of U.S. exports to China produced in states that are key to Republican political power, including those in the Midwest, South, key swing states and old blue-wall states.

The Soy tariffs hurt Minnesota, Illinois, Indiana, Ohio and Iowa as well as North Dakota and Nebraska. While any farm state not hit by a soy tariff would be hit by a sorghum tariff. These are states already hurt domestically by Trump’s anti-North American Free Trade Agreement policy.

All of this is going on while China has been slowly but systematically moving toward liberalizing agricultural commodity imports. This demonstrates a level of sophistication, ruthlessness and intelligence on China’s part.

Soy, in particular was a master play, because a bumper crop in Brazil has meant that China could very effectively switch suppliers. This had immediate impact on U.S. farm lobbies.

So, China is attempting to manipulate upcoming midterm elections in Pennsylvania, Ohio, Indiana, Iowa and Minnesota, while the U.S. has very little political gravity over domestic Chinese arrangements.

By allowing this, the U.S. is demonstrating that political influence in state-level domestic politics is for sale. And with Trump the trade negotiator in chief, that should worry political scientists as much as economists.

Ultimately, these tariffs are more about resetting the gravity of a broken global trade system. The WTO is broken, the Trans-Pacific Partnership and Transatlantic Trade and Investment Partnership were never going to solve regional or global trade, and China is dumping metals into U.S. markets.

Being in this situation was more a problem of trade policy appeasement through China’s 15 years of WTO transition. There was an almost Chamberlain-level of appeasement through this period where the overriding narrative was simply to wait for China to converge.

China has not converged, and now the open trading economies are 10 years behind where they could have been.

Pushing back on China should not mean being disrespectful, escalating conflict or widening the scope of dispute. But ultimately, the U.S. unilateral action will mean that economies of the EU, Australia, Canada, Mexico and others will all find it more difficult to pressure China to alleviate existing non-tariff barriers to trade.

U.S. agricultural exporters and U.S. manufacturers do deserve a better trade deal, but broadside tariffs on China's sunset industries are not the way to do it.

Tristan Kenderdine is research director at Future Risk, a consulting firm that tracks China’s overseas investments. His expertise has been featured in the Wall Street Journal, and he's a regular contributor to the Asia & the Pacific Policy Society at the Crawford School of Public Policy at Australian National University.